–Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.–

Spring has sprung.

The grass has riz.

I wonder when the Budget is….

On 19th March actually or, more importantly in this age of nonstop campaigning, six weeks before the European elections and barely a year away from the general election. Since the 2015 Budget will be too late to affect our wallets before we go to the polls, this is George Osborne’s last chance to reassure us that the economic situation is under control. Will he be able to resist the temptation to give us a reward for our patience through four years of austerity and to reassure us that the misery is nearly over?

If he does, it will be a statement as dishonest as Gordon Brown’s annual hymn to prudence in his Budget sermons, because the truth is that we are only halfway along the road to fiscal probity. In fact, according to the autumn statement, government borrowing will be about £110 billion this year, adding well over 6% to a national debt now approaching 90% of GDP.

Now some folk may be inclined to take comfort from the fact that those figures are more or less the norm in the industrialised world – the debt-to-GDP ratio for France is about 90%, for example, and even for Germany, it is 80%. Then, of course, there is Japan, with 250%. The problem with such comparisons, however, is that none of these countries has levels of household debt comparable to our own, which peaked at 160% of income in 2008 and has now come down only to 135%. In case you’re thinking it’s a miracle that households have reduced their debts even as much as this, given the squeeze on living standards in the last five years, you also have to bear in mind that rock-bottom interest rates made paying off debt easier than ever before.

Easier – but less attractive. At current interest rates, saving looks like a mug’s game, and people have responded accordingly. As a proportion of after-tax income, savings, which at 8% before 2008 were already among the lowest in the world, have now fallen to barely 5%, as households have chosen to raid their piggy bank to sustain their standard of living, rather than worry about old-fashioned notions like putting something away for a rainy day or building up a nest egg for their old age.

In the textbook story, the low interest rates would at the same time have spurred the corporate sector to take advantage of the almost-free finance to borrow more and invest in new production capacity, boosting output and exports. Perhaps, just perhaps, this is starting to happen, but until now it has singly failed to occur because all too often the near-zero interest rates were not reflected in the rates banks charged for lending, especially where the customers were SME’s. Instead, banks found more profitable, less risky uses for the funds, notably to replenish their reserves (as they were being urged to do by their regulator) or even to buy long-dated government debt, which offered a riskless 3% yield. Even when banks did lend, they took advantage of the reduced competition to charge quite high interest rates, thereby jacking up their margins to the highest in history.

In any case, many firms probably felt it wisest to hold off investing in present circumstances, in view of the apparent determination of our economic policymakers to reflate the pre-2008 bubbles in double-quick time, a scenario hardly likely to inspire confidence in any businessman who had survived the post-Lehman crash.

This is ultimately a monetary rather than a fiscal policy story, but it is impossible these days to separate the two. In fact, with expenditure decisions and the broader fiscal framework having already been set out in the autumn statement and monetary policy jammed on full throttle, Wednesday’s piece of political theatre will be an even emptier affair than usual.

Given the constraints and the tendency for budgets to become ever more political, I have no idea what the chancellor will decide to do, but there are a number of little things he could do which would help, albeit in a small way, to rebalance the economy. He might for example reduce the tax burden on savers. My own favourite wrinkle on this would be to exempt peer-to-peer lending from tax or to allow it to be included in an ISA, thereby encouraging both saving and SME investment, while also giving a boost (and something of an official imprimatur) to this new sector whose growth has been one of the few bright spots in the gloom of the last few years.

Otherwise, we can expect to see the chancellor unveil with maximal fanfare a sequence of steady-as-she-goes measures involving index-linkage upgrades to this or that tax allowance, excise duty, licence fee or whatever. Unfortunately, there are no grounds whatever to hope for the most urgently needed long-term reform. It is long past the time to set in train a multi-year process to simplify our tax system, which has been allowed to grow like a Japanese knotweed. A good starting point would be national insurance contributions, which have long since ceased to be anything but a tax, so may as well be recognised as such and swallowed up into income tax. No doubt there is plenty of other low-hanging fruit, but don’t be surprised if none of it gets picked in this budget.

In a fiscal position as grim as ours, the key to reducing the country’s crippling tax burden is in reducing expenditure first, so if there are to be concessions in one area, they need to be matched by increases in another. The chancellor certainly cannot afford net giveaways – which is not to say we won’t get any. At times like these, you wish governments, like doctors, took the Hippocratic Oath never to do any harm. Alas, the urge to operate is irresistible.

–Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.–

Spring has sprung.

The grass has riz.

I wonder when the Budget is….

On 19th March actually or, more importantly in this age of nonstop campaigning, six weeks before the European elections and barely a year away from the general election. Since the 2015 Budget will be too late to affect our wallets before we go to the polls, this is George Osborne’s last chance to reassure us that the economic situation is under control. Will he be able to resist the temptation to give us a reward for our patience through four years of austerity and to reassure us that the misery is nearly over?

If he does, it will be a statement as dishonest as Gordon Brown’s annual hymn to prudence in his Budget sermons, because the truth is that we are only halfway along the road to fiscal probity. In fact, according to the autumn statement, government borrowing will be about £110 billion this year, adding well over 6% to a national debt now approaching 90% of GDP.

Now some folk may be inclined to take comfort from the fact that those figures are more or less the norm in the industrialised world – the debt-to-GDP ratio for France is about 90%, for example, and even for Germany, it is 80%. Then, of course, there is Japan, with 250%. The problem with such comparisons, however, is that none of these countries has levels of household debt comparable to our own, which peaked at 160% of income in 2008 and has now come down only to 135%. In case you’re thinking it’s a miracle that households have reduced their debts even as much as this, given the squeeze on living standards in the last five years, you also have to bear in mind that rock-bottom interest rates made paying off debt easier than ever before.

Easier – but less attractive. At current interest rates, saving looks like a mug’s game, and people have responded accordingly. As a proportion of after-tax income, savings, which at 8% before 2008 were already among the lowest in the world, have now fallen to barely 5%, as households have chosen to raid their piggy bank to sustain their standard of living, rather than worry about old-fashioned notions like putting something away for a rainy day or building up a nest egg for their old age.

In the textbook story, the low interest rates would at the same time have spurred the corporate sector to take advantage of the almost-free finance to borrow more and invest in new production capacity, boosting output and exports. Perhaps, just perhaps, this is starting to happen, but until now it has singly failed to occur because all too often the near-zero interest rates were not reflected in the rates banks charged for lending, especially where the customers were SME’s. Instead, banks found more profitable, less risky uses for the funds, notably to replenish their reserves (as they were being urged to do by their regulator) or even to buy long-dated government debt, which offered a riskless 3% yield. Even when banks did lend, they took advantage of the reduced competition to charge quite high interest rates, thereby jacking up their margins to the highest in history.

In any case, many firms probably felt it wisest to hold off investing in present circumstances, in view of the apparent determination of our economic policymakers to reflate the pre-2008 bubbles in double-quick time, a scenario hardly likely to inspire confidence in any businessman who had survived the post-Lehman crash.

This is ultimately a monetary rather than a fiscal policy story, but it is impossible these days to separate the two. In fact, with expenditure decisions and the broader fiscal framework having already been set out in the autumn statement and monetary policy jammed on full throttle, Wednesday’s piece of political theatre will be an even emptier affair than usual.

Given the constraints and the tendency for budgets to become ever more political, I have no idea what the chancellor will decide to do, but there are a number of little things he could do which would help, albeit in a small way, to rebalance the economy. He might for example reduce the tax burden on savers. My own favourite wrinkle on this would be to exempt peer-to-peer lending from tax or to allow it to be included in an ISA, thereby encouraging both saving and SME investment, while also giving a boost (and something of an official imprimatur) to this new sector whose growth has been one of the few bright spots in the gloom of the last few years.

Otherwise, we can expect to see the chancellor unveil with maximal fanfare a sequence of steady-as-she-goes measures involving index-linkage upgrades to this or that tax allowance, excise duty, licence fee or whatever. Unfortunately, there are no grounds whatever to hope for the most urgently needed long-term reform. It is long past the time to set in train a multi-year process to simplify our tax system, which has been allowed to grow like a Japanese knotweed. A good starting point would be national insurance contributions, which have long since ceased to be anything but a tax, so may as well be recognised as such and swallowed up into income tax. No doubt there is plenty of other low-hanging fruit, but don’t be surprised if none of it gets picked in this budget.

In a fiscal position as grim as ours, the key to reducing the country’s crippling tax burden is in reducing expenditure first, so if there are to be concessions in one area, they need to be matched by increases in another. The chancellor certainly cannot afford net giveaways – which is not to say we won’t get any. At times like these, you wish governments, like doctors, took the Hippocratic Oath never to do any harm. Alas, the urge to operate is irresistible.

–Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.–

The euro zone crisis has been a piece of luck for Britain. Imagine what would have happened without it.

In the immediate aftermath of Lehman, Britain’s position looked utterly hopeless. With a budget deficit of world-war proportions, and facing the cost of refinancing what had been two of the world’s biggest banks and were now two of the world’s biggest bankruptcies, the future for us at the end of 2008 looked dire.

Since then, our prospects have hardly been transformed, but we have at least been given a few years breathing space to get our affairs in order. For that blessing, we owe thanks to the Southern Europeans.

The initial reaction to the collapse of Lehman was a 20%+ fall in the value of the Pound, but that would only have been the start. As the full scale of Britain’s problems sank in, investors would have looked around for a safe bolt-hole, and they would not have had far to look. With a solid currency and sound finances, euro zone countries would have looked like attractively safe havens. Nobody would have been willing to hold UK gilts at a yield of only 3%, as they do today, when they could hold French, Italian or, better still, German debt denominated in euros, the world’s second reserve currency. In the flight to quality, investors would have flooded into the European bond market, deserting sterling and, probably, the dollar too. In order to finance our budget deficit, we would have needed to offer investors higher – probably far higher – yields.

At best, we would have faced far higher borrowing costs, inflicting unimaginable damage on the level of economic activity, while the plummeting pound pushed up the price of imported goods, resulting in a steep cut in our standard of living

At worst, we might have found ourselves trapped in a death spiral, with higher borrowing costs leading to higher deficits, requiring more borrowing and even higher yields. The only exit from this nightmare scenario would have been a re-run of 1976, with extra zeroes on the end – we would have had to sign up to a “cheap” rescue loan from the IMF and an austerity programme vastly more stringent than anything Mr Osborne has so far dared to contemplate.

Instead, the doomsday machine was derailed in Athens. Thanks to the Greeks, the euro turned into a crisis currency rather than a safe haven, and the pound came to look more and more like one of the less risky options. As Portugal and Ireland followed Greece into bailout, and Spain and Italy joined the list of problem countries, the markets realised that, if German taxpayers were going to bear the costs of bailing out ClubMed, including possibly France too, then even Bunds were no longer such a safe bet.

The result is that the UK has been given a breathing space of indeterminate length to reduce its debts to manageable size. The debt spiral is still a threat, because if the markets ever despair of our resolve to put our affairs in order, investors will flee to one of the other places on the rapidly shrinking list of safe havens, but for the moment we are able to borrow as cheaply as Germany, in spite of our incomparably worse fiscal situation.

But woe betide us if the Germans decide to walk out of the euro zone, as is quite possible, before we have restored order to our public finances. In that case, the pound could well be trampled by the stampede into a refloated deutsche mark. In short, we had better not ride our luck.

–Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.–

You will often have heard it said that the euro zone cannot ultimately survive without fiscal union. This is complete nonsense. The truth is that, even with a full fiscal union, it cannot survive – at least, not with any form of fiscal union that one can imagine all the members signing up to.

This may be culturally difficult for Germans to understand. It is not that they lack experience of the problems of controlling spending by sub-central governments, because German Lander certainly do get into financial difficulties – three or four are virtually bankrupt at the moment, including the City of Berlin, no less. The problem is that this experience is not relevant to the euro zone for two very important reasons.

First, the willingness of frugal Lander such as Bavaria to subsidise a spendthrift like Berlin may not be unlimited, but it is undoubtedly far greater than the willingness of Germans (or Dutch, Finns or Estonians) to subsidise South Europeans. Secondly, on the whole, Germans are people who accept almost unquestioningly the categorical imperative to obey the law, even when, as in the case of the internal finances of the Bundesrepublik, the law is so complex that nobody except the experts understands it.

To see what happens to a fiscal union when these conditions are absent, consider how different things were in Britain under the late-lamented Mrs. Thatcher. In the mid-Eighties, as the Westminster government struggled to control local authority spending, it faced a rebellion by councillors who, when expected to implement budget cuts, resisted in very much the same way as would the anti-austerity campaigners in Greece, Italy and Spain today, if they were in power. In the end, of course, Westminster won the battle, but it had to go so far as to impose fines (so-called surcharges) on the recalcitrant councillors, backed up by the threat of sequestration and ultimately prison for non-payment.

In other words, even in a fiscal union as old as Britain, the ability of the centre to impose its will on the periphery depended ultimately on the brute force of the unitary state, or on what Max Weber called the monopoly on violence.

Now the question is this: without the threat of force, is it really likely that the Greeks and Italians will simply fall in line with spending limits imposed by Germany via Brussels?

Fiscal integration would make a refusal to balance the books far more damaging than it is now, because the “nuclear” option of letting the recalcitrant government go bankrupt would either be impossible, or at least far more complicated and painful for all the other countries than it is in the looser union of today.

Far more serious is the danger that, if the German political class ever convinces itself that a “full” fiscal union will rescue the euro zone, they will almost certainly succeed in selling it to their electorate – after all, this whole sorry euro-mess only happened because Kohl, Genscher and co. managed to convince reluctant Germans to give a green light to monetary union, much against their better judgement.

If that happens, the Germans will wake up to find they are locked into the nightmare of a Europe turned Latin American. Whereas they are currently trying to impose internal devaluation on the Southern Europeans – getting them to reduce costs and raise productivity so as to make themselves more competitive – Germany will have to accept new rules that point in absolutely the opposite direction.

The name of the game will become internal revaluation, raising wages and public sector spending and reducing taxes, because the logic of the welfare state is the same at international level as at national level – you are either a welfare recipient or a worker, a giver or a taker. Fiscal responsibility will become a mug’s game, so Germany will have to resign itself to bankrolling the festivities forever more or itself join the ranks of the feckless – at least until hyperinflation and devaluation of the euro bring the party to an unhappy end.

The bitter irony is that Germans were sold the idea of monetary union as the final instalment of the price of post-war redemption. Yet the predictable outcome has been cartoons in Greek newspapers of Nazis in jackboots and tanks. Germans are quite justifiably outraged. The final irony is that the only way to stop the proposed fiscal union from degenerating into Latin American-style hyperinflation would indeed be to send the tanks into Athens and Rome.

–Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.–

Dear Mark Carney,

As you arrive in your new office, you will not be short of free advice, least of all from economists. Nonetheless, like a supporter of the away team valiantly trying to make himself heard above the roar of the home crowd, this is my feeble attempt to compete against the chorus of voices calling for ever more, ever larger doses of QE, ever lower interest rates and even more devaluation of the Pound.

Just say no!

What, after all, has QE achieved?

We can never know for sure what might have happened without it – my colleagues are still arguing about the effects of economic policy in the nineteen-thirties, so we can’t wait for a definitive answer about 2008 and its aftermath – but the evidence in its favour is far from overwhelming, whereas the damage it is doing is plain for all to see, especially in two areas.

First, the distortion to interest rates is equivalent to a massive redistribution from savers to borrowers, a forced loan amounting to hundreds of billions of pounds. The subsidy takes many forms, most obviously the negative real interest rate paid to bank depositors and, perhaps even more damagingly, the cripplingly low annuity rates and unsustainable burden on pension funds.

To a great extent, this is an intergenerational transfer. Now we didn’t need David Willets to tell us that we baby-boomers have never had it so good and our good fortune is to some extent at the expense of the young, who have to pay for our index-linked state pensions and all the benefits in kind we enjoy. But it is also because my generation was brought up to believe that security came from saving, whereas the young are far more inclined to borrow – hence Britain’s disastrously-low saving rate, far below that of almost any of our competitors. Throughout the post-war period Britons have seen their savings expropriated by the authorities by a combination of raids on pension funds, more taxation and high inflation. Unsurprisingly, they have responded by over-investing in housing, the only asset available to ordinary folk that seemed to be sheltered from the vagaries of economics and the greed of politicians –– which brings me to the second area where QE is doing a lot of damage.

Too many people, including those who ought to know better, talk as if re-inflating the housing bubble should now be the Holy Grail of monetary policy. For them, it’s a no-brainer: print money and you can be sure that much of it will be used to buy houses.

So why hasn’t that happened already?

We’ve been printing money like crazy since 2008, so why hasn’t it generated the mother-and-father of all housing booms? Trillions of pounds have been created, but little of that money is reaching households, nor the SME’s who are just as desperate for it. The dirty little secret at the heart of QE is that it is being used to recapitalise the banks.

The record gap between borrowing and lending rates and even the 3%+ difference between long and short gilt yields should be added to the bill for cleaning up the mess left by Fred Goodwin and co. Essentially, QE means the banks can borrow for nothing and lend at rates barely changed from the boom years – my credit card offers me cash at 27%. (By the way, these high rates cannot be explained away by default risk, because bad debts have barely increased in the last few years).

Of course, being able to trumpet the world-beating reserve requirements imposed on Britain’s banks has become a point of competitive honour for our regulators, so bankers can to some extent claim force majeure as a defence. But if anyone asks why we need such sky-high reserve ratios, it is because of the appalling track record of our banks, because systemic risk is greater than ever, given that we have chosen to merge banks rather than break them up, and because we still insist on basing our economy on financial services instead of taking the opportunity to wean ourselves off this dangerous dependence.

I know that much of this is beyond your control, given the international context, in particular, the currency war unleashed by the Fed in 2008. The Bank of England has led us into the battle with enthusiasm and success. The Pound has been by some way the weakest major currency in the last few years, falling by 25% against the dollar, 35% against the yen and even by 6% against the euro – sovereign debt crisis notwithstanding. But what benefit have we derived from these hollow victories? Our export performance has remained feeble, while our inflation rate has long been far higher than any of our major competitors.

Now I am not asking for a policy of unilateral disarmament, but I think you could at least use your reputation and the prestige of your office to press your opposite numbers in the world’s central banks for an end to this madness before it is too late. It is time to get back to sound money, and to bury once and for all the myth that monetary policy can generate real growth.

For all the talk of bubbles past and present, the most damaging bubble of all has been in the market for central bankers. The first real superstar was Alan Greenspan, and his bubble burst spectacularly. Yet here we go again, expecting Bernanke and Draghi and Kuroda to save the world economy by wrecking its money.

Now you arrive in London trailing clouds of glory, revered as the world’s best central banker. The first thing you should do is make it plain to everyone – politicians, markets and the public at large – that you are not an adherent of the central-banker-as-superman philosophy and that you take what we must now call the minimalist view that characterised the pre-crash orthodoxy, with one critical modification. The job of a central banker, or rather of the MPC, ought to be to keep broadly-defined inflation under control – that is to say, the pre-2008 terms of reference need to be broadened, but not to cover the level or growth rate of real or nominal GDP. Instead, it should be widened to require you to keep an eye on asset prices. The notion that we cannot identify bubbles is simply an excuse for neglect. True, in any given case we cannot say with 100% certainty what is irrational exuberance rather than rational confidence in the future, but, as you well know, most macroeconomic decisions have to be based on unreliable estimates of things like the growth of capacity, the supply of labour and the demand for money.

You arrive in London at the top of the league of central bankers. Bear in mind that there is only one way your reputation can go from here.

As we remember the second greatest prime minister of the Twentieth Century, we quite rightly think first of her achievements. There is no need for me to recap those when they are being well covered in the Conservative press. They are best summarised by acknowledging, as some of the left wing press does, that we’re all Thatcherite now, and however much some folk might have their fun dancing on her grave, it’s a bit late now – she won, and their celebrations are in the end a tribute to the strength of the forces she overcame almost single-handed.

On the negative side, it has to be admitted that we are still haunted by her two big failures.

The first is the over-centralised government she saddled us with. In her struggle to control local government spending, which was running amok (deliberately so in Liverpool), she made a temporary power grab which, as is the way in Westminster and Whitehall, has never been reversed and indeed has got worse. The result is that we are left with completely emasculated local authorities, with no power, no budgets, and no independence, and who, not surprisingly, are routinely ignored by the electorate.

Her second failure was the result of an enthusiasm she had which, though it goes very much with the grain of the country, continues to hobble our economy to this day. Though she alone did not make us a nation of owner-occupiers – in fact, against her own inclination, she allowed the tax relief on mortgage interest to be eaten away by inflation – she certainly supported the growth of home ownership in every other respect, at a point when, as inflation was finally brought under control, it might have been possible finally to put a stop to this self-destructive British obsession. It was a big opportunity missed to restore a more sensible balance between private sector rental and owner occupancy.

Instead, the long-overdue financial deregulation in the mid-Eighties had the unexpected side-effect over succeeding decades of turning the middle class from savers into real estate speculators. The result has been a series of crises, as house prices started to behave like share prices, with the difference that every blip in the housing market directly, palpably affected millions of real live voters, for whom it was almost their only asset. A decade ago, it was common to get people pointing proudly to their home and saying: “There’s my pension”.

No wonder that nowadays economic policy is more than ever fixated on the housing market, with every proposal being viewed through the prism of its possible implications for the supply of mortgages, the number of new houses built and, heaven help us, the price of property. Before Maggie, economists had tended to blame Britain’s inflexible labour market on its high level of owner occupancy, but in recent decades its other damaging effects have been far more important, most obviously the limits it sets on interest rates, the “financialisation” of real estate and the consequent penalisation of saving and investment in everything other than housing.

Ironically, Mrs T saw owner occupancy as essential to her model of a nation of self-sufficient savers. Instead, under her successors, the middle class turned into welfare-dependent property speculators, something that must surely have appalled her.

These are big failings. Those who celebrate her passing cannot appreciate the colossal scale of her achievements to set against them, in most cases because they are too young to remember and too dim to imagine how bad things were before 1979, and for some of my own generation, because they have wilfully forgotten. Those of us who do remember are simply grateful.

]]>http://blogs.reuters.com/laurence-copeland/2013/04/10/we-are-all-thatcherite-now/feed/0Cyprus deal means the cat is well and truly out of the baghttp://blogs.reuters.com/great-debate-uk/2013/03/27/cyprus-deal-means-the-cat-is-well-and-truly-out-of-the-bag/
http://blogs.reuters.com/laurence-copeland/2013/03/27/cyprus-deal-means-the-cat-is-well-and-truly-out-of-the-bag/#commentsWed, 27 Mar 2013 12:06:59 +0000http://blogs.reuters.com/laurence-copeland/?p=115By Laurence Copeland

The opinions expressed are his own.

The German insistence that depositors in Cyprus must face a haircut marks a new and dangerous stage in the interminable death throes of the euro zone. Up to this point, the one unshakeable principle underlying all the bailouts on both sides of the Atlantic since 2008 had seemed to be that the value of bank deposits was sacrosanct, whether they were explicitly insured or not. Now, the cat is well and truly out of the bag. It will be clear from now on, even to the most naïve investor, that there are no longer any totally safe assets. The principle of caveat emptor applies to bank deposits as much as to second-hand cars or beef-burgers. If even deposit insurance is now conditional, the difference between insured and uninsured deposits is only one of degree of risk. It is amazing how calmly the markets have reacted to the new reality, but it would be foolish in the extreme to rely on their continued insouciance.

There are a number of lessons we can learn from the events of the last fortnight, most of which relate more to Germany than to Cyprus.

For a start, recall the background to this latest crisis. At the end of last year, Mario Draghi allowed himself a pat on the back, as if he really believed all the nonsense in the financial media about the Man Who Saved The Euro. His policy of standing ready to buy unlimited quantities of short term debt from governments under pressure meant that “the darkest clouds over the euro area subsided in 2012”, he said.

When I want a weather forecast, I’ll go to the Met Office, thank you.

In case there was any doubt before, it is now plain that the ECB policy to save the euro is actually subject to German approval, so that although in principle there was no apparent reason why the Cypriot Government could not have bailed out its banks, using finance raised by borrowing from the ECB, in practice it seems they were never offered this option, which was vetoed ab initio by Angela Merkel and/or finance minister Wolfgang Schäuble. The veto itself must be seen as setting some kind of precedent.

It is far from unexpected. I have long argued in these blogs that the Germans were allowing themselves to be taken for a ride by the Mediterranean euro zone members, and that at some point in the run-up to their general election this autumn, they would put their foot down and say ‘Nein!’ With the benefit of hindsight, Cyprus was the obvious first victim. Although the country is so small that bailing it out will only involve a tiny fraction of the cost of rescuing Greece, Portugal or Ireland, let alone Spain or Italy, it embodies everything the Germans despise. In particular, it has set up shop as an international banking centre, an unforgivable crime in German eyes.

Certainly, the Cypriots are guilty of allowing their banks to behave in an utterly reckless fashion, expanding deposits to seven or eight times GDP, compared to about one-and-a-half times GDP for the UK, which also has a perilously large banking sector. Equally, it is hard to feel much sympathy for large depositors who ought to have asked themselves why they were being paid so much higher interest rates in Cyprus than those on offer elsewhere in Europe. As the old saying goes, when something seems too good to be true, it usually is. After all, investors had ample warning from Iceland, which played the same game with the same disastrous consequences.

Nonetheless, it is hard to see why the Cypriots and their banks should be treated so much worse than the other bailed-out countries, which have been brought down by irresponsible governments, tax evasion and corruption. Cyprus is hardly the only country in the euro zone with a bloated banking sector – Ireland is struggling with the same problem and Luxembourg has a disproportionately large volume of foreign deposits, many reportedly owned by Germans. It is difficult to escape the conclusion that the Germans see Cyprus as small enough to be subjected to exemplary punishment while at the same time sending the tacit message to the markets that – nudge nudge, wink wink – no large country will be treated this way, so deposits in Italy and Spain are still as safe as, er, well… safer than houses.

But is this the message the markets will take from the debacle?

One of the more unpleasant aspects of this episode is that German reluctance to cough up seems to be based on the suspicion that many of the large depositors in Cyprus are Russian criminals laundering their ill-gotten gains. Whether or not this is true, it is at best irrelevant, at worst distasteful. If there really is evidence to support this charge, then it is a matter for the courts, not for European finance ministers. In any case, much of the suspect money was already in the Cypriot banking system before it joined the euro zone, so if the German authorities had concerns about matters as serious as this, they ought to have stopped Cyprus joining the Euro in 2008 .

In the meantime, where will the Russian money emigrate to?

There are already vast amounts of Russian money in the big Western banks, especially in London and Zurich, both of which are likely to be major beneficiaries of any flight to “safety”, but for an oligarch who needs a euro account, Frankfurt looks the safest bet – and you can be sure that, whatever their politicians may say, German bankers will not actually turn their nose up at Russian money fleeing Cyprus or any other “offshore” banking centre.

Looking forward, it is hard to see anything but more and probably graver crises ahead. For the next six months at least, EU politics are going to be increasingly dominated by the general election in Germany, which undoubtedly helped to stiffen Frau Merkel’s resolve not to let Cyprus off the hook. The closer we get to September, the tougher she will be in confrontations with the Southern Europeans, and the more she will come under pressure to rein in Signor Draghi and his bailout-by-stealth policy.

The Germans are paying a heavy price for foolishly swallowing their reservations and tamely allowing Chancellor Kohl to sign the Maastricht Treaty. The more they are abused by their welfare clients, the more they will begin to realise that the price is not measured only in euros. For Germany, the euro zone was always a political, not an economic imperative. If, instead of creating gratitude, it is reigniting old hatreds, its underlying logic is destroyed.

Cyprus is going to be forced into introducing capital controls for the foreseeable future, which is a major reverse for the EU’s financial market integration project, and the proposed European banking union, based on joint regulation and deposit insurance, is now as dead as the market for Cypriot bank shares, as is the esprit communautaire, though in reality you could never see much sign of it anywhere outside the windy rhetoric of EU politicians.

A forecast, at least as good as Mario Draghi’s: if the euro zone can survive the German election, it may survive for decades more – but I very much doubt that it can.

Budget Day again, and the pressure on Chancellor George Osborne is rising ominously. There is little agreement about what needs to be done, but complete agreement that something has to change because the state of Britain’s economy is simply awful.

Yet just look at the facts in the table below (all the data are taken from Eurostat, the EU’s own statistical agency). For the latest quarter, the UK economy contracted by 0.3 percent – but France’s performance was just as dismal, Germany’s economy shrank by twice as much, as did the euro zone as a whole. Only the USA achieved a significantly better outcome, a dazzling growth rate of zero – but at least it didn’t shrink. Year-on-year (Y-O-Y, as the pros call it), the picture is even clearer. Britain’s economic growth, a miserable 0.3 percent, was not significantly lower than Germany’s, but better than France’s minus-0.3 percent, or indeed the euro zone as a whole, which was down by 0.9 percent. Only the USA grew to any significant extent – and there are signs that it may now be starting to slow down, even before the impact of the fiscal cliff and the sequester are felt.

What about unemployment?

You would never know it from the BBC, but the story is more or less the same. Our unemployment rate is lower than anyone else’s except Germany. Moreover, unlike in previous recessions, the low unemployment rate is certainly not due to discouraged workers dropping out of the labour force, because the number of people employed in Britain has actually grown over the last few years, thanks to the fact that the private sector has been hoovering up workers released by the public sector.

GDP

unemployment

current account

latest

Y-O-Y

%

%

%

% of GDP

UK

-0.3

0.3

7.7

-4.2

FRANCE

-0.3

-0.3

10.6

-1.6

GERMANY

-0.6

0.4

5.3

6.2

EURO ZONE

-0.6

-0.9

11.9

EU

-0.5

-0.6

10.8

USA

0.0

1.6

7.9

-2.8

The facts can be summarised in two famous quotations, appropriately twisted.

First, Britain has the worst-performing economy, apart from all the others, and secondly, all successful European economies are alike, whereas each unsuccessful economy is unsuccessful in its own way.

In Britain’s case, our big failures are poor export competitiveness and over-consumption, which is precisely why we need austerity. Our relatively high growth rate is driven by domestic demand, as is clear from the fact that our saving rate, which had almost fallen to zero before the 2008 crash, is now up to about 7 percent – but that is still less than half the rate in France and Germany.

And we should never forget that our budget deficit is higher than any other large economy – in fact, bigger than almost any West European country except Greece. Moreover, the independent watchdog, the Office for Budget Responsibility, is forecasting that, on current fiscal policy settings, neither our deficit nor the level of our national debt will have shrunk much by 2015 – and all the OBR’s forecasts so far have turned out to be over-optimistic!

I can see no reason to suppose more spending will do anything, other than increase our demand for imports even further, leaving us with even more debt than we have now. Worst of all, we would run the risk of a catastrophic bond market crisis which would leave us crippled by higher interest rates and locked into a vicious circle of printing money to pay our debts, leading to more inflation and even higher interest rates.

What we need instead is a package of supply-side measures to restore long term competitiveness: reducing fuel prices, cutting personal and corporate taxes and making our labour markets more flexible, defying Brussels where necessary – for example over the crass limits on working hours.

All of the above need to be matched by spending cuts. The U-turn we really need is to end the ring-fencing of spending on the NHS and international aid, most of which is a complete waste of taxpayers’ money. Continuing to feed these sacred cows means that the rest of the herd has to be starved half to death, with the result that our transport infrastructure will remain a national embarrassment, our education system will continue to decline and our defence will be reduced to a minimal nuclear deterrent supplementing armed forces of a scale more appropriate to a country the size of Denmark or New Zealand.

Of course, what I am advocating is an agenda which Sir Humphrey would have called “courageous”, so if you ask me what I expect the Chancellor will actually do on Wednesday, the answer is: not much, other than some tinkering, hopefully producing another comedy cock-up like the pastie-tax to keep us all entertained.

All of which means I am not at all optimistic about the future of the British economy.

So, in the unlikely event there are any young people reading this for guidance, my advice is simple: emigrate to America or Canada, if you can stand the cold, or better still to Australia or New Zealand.

And to the old, the long term sick and disabled, the unemployed – take advantage of the relative generosity of the welfare state while you can, but bear in mind… it won’t last forever. Can you survive its collapse? As my mum used to say: it’s being so cheerful that keeps me going.

Whenever the question of the future of the euro zone comes up, you can always rely on someone (often a German) to say something like “Yes, of course the Germans don’t like having to foot the bill for the weaklings… but at the same time, they do get enormous benefits from having a fixed exchange rate. I mean, just look at their trade surplus. All those Mercs and BMW’s you see in Milan and Athens and…”

This argument is utter nonsense, and the economists especially ought to know better.

Consider what they are saying. In the end, it is worth the Germans bailing ClubMed out – directly, as it has done whenever Greece faced default, or indirectly with euro bonds, as they are being pressured to do in future – because that will enable the Southern Europeans to carry on “buying” the products churned out by Germany’s redoubtable export industries.

But since the Greeks et al will essentially be buying their Porsches with loans which, to the extent that the debts are nationalised, they can never be made to repay, the cars and equipment supplied by Germany are essentially gifts. They can hardly be called exports at all, since they are not sales to the rest of the world. Whichever way you look at it, they are simply international aid-in-kind. They are not exports any more than the food and medicines distributed as bilateral aid to impoverished African countries.

You may think this argument is some kind of intellectual sleight-of-hand, on the grounds that Daimler-Benz and BMW still get paid for the cars they deliver to Greece. But this is simply pass-the-parcel. Sure enough, the German exporter gets his euros, but the euros come via a Greek bank from the central bank in Athens which in turn has to draw on its so-called Target2 account at the ECB in Frankfurt – which is, of course, overdrawn. The Greeks and other troubled economies are no more likely to repay these overdrafts than the bonds which they have twice “restructured” (i.e. defaulted on).

In the end, therefore, the idea that Germany should preserve the euro zone so as to protect its exports to its neighbours is simply a proposal that its taxpayers and savers should permanently subsidise its export industries – which makes sense only to those who work in one of those industries and, ideally, pay no German taxes, and of course to the Greek Porsche driver.

In any case, economists ought to recall the fundamental truth that fiddling with the value of your currency – keeping it too high or too low relative to its market value – can create all sorts of real effects in the short run, but washes out altogether in the long run of anything over about 5 years. The reason is that, since a country with an undervalued currency is ipso facto overcompetitive, it tends to sell more abroad than it buys, in the process sucking in payments from the rest of the world and swelling its own money supply. The inflow increases demand in the surplus country and tends to push up its price level, thereby eroding its competitive advantage and reducing its trade surplus.

Why has this not happened in the euro zone?

Germany’s trade surplus with its neighbours ought to have increased Germany’s share of the total quantity of euros, but instead of allowing this to happen, the euro zone system effectively blocked this self-equilibrating mechanism, by buffering each country’s surplus or deficit in positive or negative balances at the ECB – the notorious Target2 balances. The result was that Germany’s surplus never translated into domestic inflation and its competitive strength became permanent.

Of course, it makes sense for European politicians to claim that somehow Germany is getting something in return for being the eternal sugar-daddy, and they may well manage to sell this story to the German electorate. I simply worry that the longer it takes for Germans to realise their pockets are being systematically picked, the angrier they’ll be when they do finally wake up to the fact – and their rage won’t necessarily be directed exclusively or even mainly at the guilty politicians.

Emblems of VW Golf VII car are pictured in a production line at the plant of German carmaker Volkswagen in Wolfsburg, February 25, 2013. REUTERS/Fabian Bimmer

–Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.–

Modern wars have no clear start and no clear end, leaving politicians free to deny their existence when it suits them and to claim victory even in the face of obvious defeat.

The same seems to be true of currency wars, judging by the reports from the meeting of the world’s finance ministers in Moscow, who, according to the FT, asserted that “central banks should not target their exchange rates, but added that monetary easing which had the side-effect of weakening a country’s currency was allowed”. This is a bit like saying that bombing civilians is OK as long as you’re actually aiming at terrorists – which, come to think of it, is more or less what we do say.

If you think it is only in the Economics 101 textbook that currency depreciation follows monetary easing as night follows day, then read on: “Shorting the Japanese yen ….hedge funds [have been] reaping billion dollar profits … in January.” The hedge funds had got the message.

The background to this saga goes back to the dark days immediately following the collapse of Lehman Bros in September 2008, when the US authorities hastily embarked on a campaign of so-called Quantitative Easing (again, as in all modern wars, uncomfortable realities have to be camouflaged in specially-invented newspeak – QE is simply what used to be called printing money). Britain did the same. True, neither the US administration nor the Labour Government of Gordon Brown actually took aim at the exchange rate – at least, not publicly – but the Americans were at the very least unconcerned about the effect on the dollar, and on this side of the Atlantic there was quiet satisfaction when the pound duly fell by 20% against the dollar and 30% against the euro.

However, as the crisis progressed, the euro zone began to unravel, partly because the rise in the relative value of the euro made its struggling periphery even less competitive on world markets than it had been before the 2008 crisis. It was obviously only a matter of time before the ECB cracked under the pressure and started to print euros – yes, of course, Governor Draghi was ostensibly acting to save ClubMed from default, but the collateral damage was bound to be a lower value for the euro.

While all this was going on, global investors – hedge funds, sovereign wealth funds, internationally-minded pension funds – were engaged in an increasingly desperate search for a safe haven where they could park the trillions of dollars under their care. The Swiss Franc is the traditional bolt-hole in such circumstances, and it duly rose against the dollar by more than 10% in 2008, and by 2011 had doubled in value in only ten years. Not surprisingly, Swiss industry was feeling the strain and demanded action, and their central bank has responded by agreeing to print as many Swiss Francs as necessary to stop any further appreciation. Outside Europe, the new darlings of the emerging markets – Brazil, Korea, Mexico and others – were taking similar measures to ensure they were not swamped in the flood of dollars and pounds.

By last year, the only major currency being allowed to appreciate was the ten. Although Japan had invented (or, rather, re-invented) QE back in the 1990’s, when its own long recession began, the pace of its monetary expansion had remained fairly constant, thanks to a residual sense of responsibility and integrity in the higher reaches of its central bank. This fact, combined with the largely-outdated perception in global markets that the Japanese are still in thrall to Confucian thrift and self-denial, meant that the more the rest of the world printed money, the greater the demand for yen. As the exchange rate dipped below 80 to the dollar, the resistance to accelerated monetary easing began to buckle, and with a general election looming, it was clear from the opinion polls in 2012 that the LDP was going to return to power on a platform of printing enough money to bring the value of the yen back down.

Markets do not wait for politics, however, so selling the yen was a no-brainer in the run-up to the election of Mr Abe last December, which the hedge funds, including (it is said) George Soros, exploited. (And why on earth shouldn’t they)?

So much for background. My amazement at the comments emanating from the G20 is because, if the sequence of events in this potted history of the last five years is not an ongoing global currency war, I invite suggestions as to which additional ingredient is missing.

Yet Christine Lagarde who heads up the IMF remains a politician first and foremost: “The talk of currency wars is overblown. Yes, the euro has appreciated and yes, the yen has depreciated but that is the result of good policies in the euro zone and looser policy in Japan.” (Note the contrast between “good” and “looser” policies).

In the 1930’s, countries followed beggar-my-neighbour policies of competitive devaluation backed up by trade protection. We should be grateful that, so far at least, politicians have withstood the clamour for tariffs or quotas, but the danger is that as the currency war becomes fiercer, they will find it impossible to resist the pressure for escalation.

In the meantime, they obviously calculate that admitting they are in a war will only make it harder for them to withstand the pressure. Maybe they are right, but my fear is that many of them actually believe the nonsense coming out of G7 and G20 meetings, based as it is on an imaginary distinction between monetary expansion for domestic purposes (good) and for external competitiveness via exchange rate depreciation (bad). The former is OK, according to Mme. Lagarde, when “there is no major deviation from the fair value of the currencies.”

This may be good politics, but it is the economics of the madhouse. Economists have never arrived at an unambiguous definition of the fair value of an exchange rate, and even if they did agree on one, it could never logically involve a simultaneous depreciation of all the world’s currencies unless the Martians agreed to let their currency appreciate.

Maybe there’s a hidden logic here – after all, these meetings do seem sometimes to take place on another planet.